{"id":2429,"date":"2021-11-12T08:14:55","date_gmt":"2021-11-12T08:14:55","guid":{"rendered":"https:\/\/danieel.id\/?p=2429"},"modified":"2023-12-27T11:00:05","modified_gmt":"2023-12-27T04:00:05","slug":"how-to-calculate-the-cost-of-equity-with-capm-method","status":"publish","type":"post","link":"https:\/\/danieel.id\/en\/how-to-calculate-the-cost-of-equity-with-capm-method\/","title":{"rendered":"How to Calculate The Cost of Equity with CAPM Method"},"content":{"rendered":"

Equity<\/em> in addition to debt<\/em>, is one of the sources of capital of a company.<\/span><\/p>\n

For every source of capital, both equity<\/em> and debt<\/em>, of course there are costs.\u00a0If the cost of debt is interest, then the cost of equity is the required return that shareholders expect as compensation from bearing the risk of their investment into the stock.<\/span><\/p>\n

Of course<\/em>, the higher the risk of an investment, the higher the return expected by investors.<\/span><\/p>\n

The Capital Assets Pricing Model (CAPM) i<\/em>s a model used to calculate the cost of equity.\u00a0\u00a0This model connects the required return on an investment with the level of risk to the investment.<\/span><\/p>\n

The level of risk on an investment (including stocks) is represented by a coefficient<\/em> (beta).<\/span><\/p>\n

For more details, here is the formula from CAPM:<\/span><\/p>\n

\"formula<\/p>\n

 <\/p>\n

Let’s review one by one the components of the Capital Assets Pricing Model (CAPM):<\/span><\/p>\n

 <\/p>\n

Risk Free Rate of Return (Rf<\/sub>)<\/strong><\/span><\/h2>\n

Risk free investment <\/em>is usually measured by the yield of a 10-year fixed rate government bond.\u00a0 This is because government bonds are a type of investment that is (almost) completely risk-free.<\/span><\/p>\n

For the Case of Indonesia, the data rate of government bonds can among others be seen on the website “Penilai Harga Efek Indonesia<\/em>“, as I quote below:<\/span><\/p>\n

\"Risk
Risk Free (yield of goverment bond 10 Y)
Source : www.ibpa.co.id<\/a><\/figcaption><\/figure>\n

As we can see in the picture above, the rate of Government Bonds with a tenor of 10 years (at the time this article was written – February 26, 2021<\/em>) is 6.774%<\/strong>.<\/span><\/p>\n

This rate can be used as a reference for Risk Free<\/em> (Rf<\/sub>) in Indonesia.<\/span><\/p>\n

<\/h2>\n

Beta Coefficient<\/strong><\/span><\/h2>\n

Beta coefficient <\/em>is a relative measure of the level of risk on a particular asset (which is not diversified) to the average risk level of another asset.<\/span><\/p>\n

In the case of shares this can be interpreted as the level of volatility or sensitivity of a stock to market movements. In Indonesia, market movements are represented by IHSG<\/strong> (Indeks Harga Saham Gabungan <\/em>or also known as Jakarta Composite Index- <\/em>JCI<\/strong>)<\/span><\/p>\n